A regular DIY Super reader contacted us with a major problem which to varying degrees is quite common.

Mr Joe & Mrs Mary Smith who live in Melbourne (not their real name or place of residence) are gearing up to retire.

They are both 64 and are fit and healthy. Very importantly they want to remain financially independent and do not want the aged pension.

Joe retired some years ago after spending over forty years in real estate. Mary is semi-retired and works her own hours as a design consultant in the residential building industry.

They have run a small super fund for many years. In the fund they have $460,000 made up of $100,000 in a house which earns about $80 per week rent, $300,000 in vacant block of land, $35,000 in managed funds and $25,000 in listed shares.

They recently sold their home and raised a net $200,000. Ideally this money will be used to fund their life over the next few years while they travel the world. Once this money has run out they will begin their super pensions.

They consider themselves to be primarily property investors as they have not had much luck with the share market or managed funds.

Despite this the Smiths know that their fund ultimately has to pay them an income and therefore even now their super fund has too much property – especially property that is not generating an income. The asset mix of their fund will need to change to make the pension payments possible over the medium to longer term.

The vacant block of land is in a holiday resort area which is growing very rapidly. They are reasonably confident that if they could develop the property it would be worth at least $750,000. “We know how to extract maximum value from real estate and very few properties in the area are selling for less than $750,000 now so we are very confident that we can sell it for at least that amount,” Mary said.

The Smiths want to live in the new house for a few years before selling it because they think the area will continue to appreciate substantially and they can further increase their asset base for old age.

The questions are how can they build the new house and can they live in it when their super fund will own some of it?

Within the super fund they could sell the house, managed funds and listed shares which would fund most of the development costs.

However a significant problem is Joe and Mary's age and their work status.

Under superannuation law, once you turn 65 and you aren't satisfying certain work tests, you must begin to take your accumulation benefits either as one or more lump sums or pensions. The work test which must be satisfied looks back to the previous financial year. This test applies until age 75 when another test comes into play.

Joe is retired and 64. He will be 65 before the end of 2005. Joe fails the super employment test because he was not employed during 2004/05. Mary is also 64 and can satisfy the super work test if she has to.

Joe has to take a super fund pension before he wants to and as a result the housing development cannot be fully funded by their SMSF because it has to pay Joe an income and it needs a source of funds for this.

Perhaps the development could be funded by the proceeds from the sale of their old home? There are two ways this could potentially be done. Firstly the proceeds could be contributed into super and the super fund then proceed with the development. (There are no work tests for super contributions before age 65.) Secondly the fund could enter into a joint venture with Joe and Mary to develop the property.

At a practical level neither of these solutions is ideal because the Smith's would prefer to use their house money to live and travel for a few years before touching their superannuation.

At the legislative level there are also problems. The joint venture could not be done via a closely held unit trust (whereby the super fund contributes the vacant land in specie and in return gets units) because such a transaction fails many of the requirements necessary to allow such transactions to take place.

What about using tenants in common between the Smiths as individuals and their SMSF – that is legal and equitable interest would be held? One of the main problems with this approach is that the fund could be seen to be running a business which is not allowed under the super laws.

In any event a major problem is that the Smiths cannot live in the new house if their super fund owns part or all of it because this would be a breach of the in house asset requirements.

The Smith's preferred solutions are almost insurmountable. This is a good example of how inflexible the super laws can be. The reason often sited for this inflexibility is because of past abuses which is no comfort to people who merely want to get on with their lives.

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